Bills Digest 54, 2008-09 - COAG Reform Fund Bill 2008

Bills Digest no. 54 2008–09

COAG Reform Fund Bill 2008

WARNING:
This Digest was prepared for debate. It reflects the legislation as
introduced and does not canvass subsequent amendments. This Digest
does not have any official legal status. Other sources should be
consulted to determine the subsequent official status of the
Bill.

Proposals for the reform of Commonwealth state financial
relations have been much debated. The COAG Reform Fund Bill 2008
(the Bill) is a measure in the government s proposed reform of
Commonwealth state financial relations.

A feature of Australia s federal system is that power over
spending and policy-making is being increasingly concentrated in
the Commonwealth. This follows from the fact that the states have
relatively large spending responsibilities but relatively few
own-revenue sources whereas the Commonwealth has substantial power
to raise revenue but relatively few Constitutionally-assigned
spending responsibilities. The difference between the expenditure
responsibilities of each tier of government and the own-source
revenues available to that tier is called vertical fiscal
imbalance. Australia is characterised by a relatively high degree
of vertical fiscal imbalance compared with other federations. A
consequence is that the states depend heavily on Commonwealth
grants for revenue.[1]

The Commonwealth provides financial assistance to the states and
territories in the forms of general revenue assistance mainly GST
revenue and specific purpose payments (SPPs). The distribution of
GST revenue is governed by the Intergovernmental Agreement on
the Reform of Commonwealth-State Financial Relations. This
provides, among other things, that:

the states and territories can spend the GST revenue as they
wish

revenue from the GST is to be distributed among the states and
territories based on horizontal fiscal equalisation principles,
and

the Commonwealth Grants Commission (CGC) is responsible for
calculating the relativities used to determine the
distributions.[2]

State governments should receive funding from
the pool of Goods and Services Tax revenue and health care grants
such that, if each made the same effort to raise revenue from its
own sources and operated at the same level of efficiency, each
would have the same capacity to provide services at the same
standard.[3]

The principle thus seeks to ensure that each state has the
financial capacity to provide services at national average levels
and at average levels of efficiency. There is, however, no
obligation on the states to provide the services they are funded
for.

The CGC, when calculating the relativities, takes into account
the fact that the states have different revenue raising capacities
and different spending needs . For example, Western Australia has a
strong capacity to raise mining revenue compared with the other
states, while Queensland has a smaller need to spend on aged care
than South Australia. These differences are reflected in the amount
of GST each state receives. A state with a relatively high capacity
to raise revenue, for example, has its GST entitlement reduced,
while a state with a relatively large need for a particular
category of expenditure has its share of the GST increased.[4]

The GST relativities the CGC calculated in its 2008 update
resulted in NSW, Victoria, Queensland and WA in effect
redistributing resources to Tasmania, the ACT and the NT.[5]

The government s proposed reform of Commonwealth state financial
relations relates mainly to specific purpose payments (SPPs). They
are payments the Commonwealth makes to the states and territories
under section 96 of the Constitution. This section provides, in
part:

the Parliament may grant financial assistance
to any State on such terms and conditions as the Parliament thinks
fit.

An example of an SPP is the grants to the states under the
Australian Health Care Agreements to assist with the provision of
public hospital services free of charge to eligible persons.

There has been considerable criticism of the use of SPPs. Some
see SPPs as undermining the federal system of government by
allowing Commonwealth involvement in areas beyond those stipulated
in the Constitution. Other criticisms include the use by the
Commonwealth of SPPs for short-term political purposes and to
impose its priorities on the states.[6]

Problems associated with SPPs include a lack of accountability,
duplication of administration and blame shifting. Where functions
are shared between the Commonwealth and the states, another problem
is cost-shifting whereby one tier of government attempts to shift
costs onto the other tier. The states have also criticised the
conditionality attached to SPPs whereby the Commonwealth requires
the states to meet certain undertakings as a condition of the
states receiving grants. In particular, the states have criticised
so-called input controls such as the states having to match
Commonwealth funding on a dollar-for-dollar basis.[7]

There have been numerous proposals for improving the operation
of SPPs. They include:

clarification of the roles and responsibilities of each tier of
government so that duplication/overlapping of responsibility for
service provision is reduced

where responsibility for programs is shared between the
Commonwealth and states, funds for related programs should be
pooled rather than being earmarked to specific programs, and

the broadbanding of programs.

An example of broadbanding is that which Garnaut and Fitzgerald
proposed:

The centrepiece of the proposed reform is a new
cooperative model for SPPs in the key merit areas of health and
aged care, and education and training. SPPs in these areas would be
broad-banded into two national programs in which the States have
clear authority over service delivery, without micromanagement and
input controls. A third national program would be established in
indigenous community development.[8]

As discussed below, the government is proposing a form of
broadbanding similar to that proposed by Garnaut and
Fitzgerald.

The Council of Australian Governments (COAG) is the peak
inter-governmental body in Australia.[9] On 26 March 2008, COAG agreed a new
framework for Commonwealth-state financial relations. The new
framework will begin on 1 January 2009 (reform of healthcare
funding will begin on 1 July 2009). A new intergovernmental
agreement on Commonwealth-state financial arrangements is to be
finalised by the end of 2008.

Objectives of the new framework include:

reduced administrative and compliance costs and
cost-shifting

increased accountability for service delivery, and

greater flexibility for the states to allocate resources to the
areas they deem to be of greatest need and the means to deliver
services.

Features of the new framework include:

a rationalisation of SPPs but without a reduction in total
Commonwealth SPP funding for SPPs. The proposed rationalisation
entails combining related SPPs (for example, those dealing with
health) into fewer new national SPP agreements. Rationalisation
will reduce the number of SPPs from more than 90 to five or six
national agreements for the delivery of healthcare, affordable
housing, early childhood development and schools, vocational
education and training, and disability services. The national
agreements will be ongoing but subject to periodic review

the states will continue to receive as general revenue
assistance payments where there are no compelling national
objectives, for example, compensation for the revenue forgone
following the commencement of the national scheme for the
regulation of companies and securities

less emphasis on conditionality. Rather, each national SPP will
be supported by a mutually-agreed Statement of Objectives and
Outcomes. Each Statement will specify

what the Commonwealth and the states expect to achieve from
their joint involvement, that is, the objectives and expected
outcomes[10]

the role of each jurisdiction, the responsibilities it will be
accountable for, and the outputs it will deliver, and

indicators/measures of performance to assess whether or how
well a jurisdiction has achieved outcomes.

Another feature of the framework is the new National Partnership
payments. They fall into three categories:

project payments: these will be made to support national
objectives and to help fund the delivery of specific projects, for
example, road and rail projects under AusLink

facilitation payments: these payments may be used to help a
state to lift its standards of service delivery in areas identified
as national priorities, and

reward payments: these will be an incentive to encourage the
states to undertake reforms. The intent is that payments will be
structured in such a way as to encourage the attainment of
performance benchmarks.

Reward payments are similar to the previous National Competition
Policy payments made to the states to encourage them to adopt
competition reform.

The COAG Reform
Council an independent non-statutory body will, among other
things, report on performance information against SPPs outcomes,
and assess whether predetermined performance benchmarks have been
achieved under National Partnership agreements.

The government claims that the new framework will provide
greater funding certainty for the states. The process for
determining the level of funding has been described as follows:

Importantly, the overall funding arrangements
for the new national SPPs and the reform‑based National
Partnership payments will be negotiated as one financial package by
Treasurers, through the Ministerial Council for
Commonwealth‑State Financial Relations, for endorsement by
COAG. This will allow portfolio ministers to focus on the policy
aspects of delivering more effective and efficient services. While
the level of funding will have regard to the policy objectives, the
new framework places policy not funding front and foremost
The initial overall funding package, including base funding and
appropriate growth factors for the new national SPPs, and funding
for the new incentive‑based National Partnership reform
payments, will be negotiated later in the year. Nevertheless, the
Commonwealth has provided a clear commitment that no State will be
worse off overall than they would be under the current arrangements
and that National Partnership reform payments will be in addition
to existing payments.[11]

The COAG Reform Fund will be used to channel National
Partnership payments and investment funds (see below) to the
states. How this will work has been described as follows:

A new COAG Reform Fund will receive
contributions directly from the Commonwealth Budget as well as from
three other funds being set up by the Government for capital
investment the Building Australia Fund; Education Investment Fund;
and Health and Hospitals Fund. The purpose of these funds, which
are to be financed largely from future budget surpluses, is to
underpin future progress on investment and reforms in these key
sectors. Where the investments are to be undertaken by the States,
and the Commonwealth has agreed to fund these, the funding will be
provided through the COAG Reform Fund in the form of National
Partnership payments.

To ensure that total capital spending from the
funds is consistent with the Government's macroeconomic goals, the
Australian Loan Council will provide advice on whether the combined
spending envelope of both the Commonwealth and the States can be
delivered in prevailing economic conditions without putting at risk
the Government's inflation target. The Australian Loan Council will
not approve or advise on individual infrastructure projects.

The quote referred to three investment funds: the Building
Australia Fund, the Education Investment Fund, and the Health and
Hospitals Fund. (The Explanatory Memorandum and the Bill refer to
these funds as nation-building funds).

According to the government, the Building Australia Fund (BAF)
will be established:

to help finance the current shortfall in
critical economic infrastructure in transport and communications
such as road, rail, ports and broadband, particularly where
infrastructure requirements in these areas are not provided by the
State and Territory governments or by the private sector.[12]

In terms of funding, the government proposed committing funds to
the BAF from three sources: Budget surpluses from 2007-08 and
2008-09, the Communications Fund, and proceeds from Telstra 3. The
government proposes to close the Communications Fund and transfer
its assets to the BAF. The government also proposes to use the BAF
to invest in a National Broadband Network. Spending on this will
depend partly on the government s response to the Glasson
Review.[13]

In the 2008-09 Budget, the government announced that it would
invest $11 billion in the Education Investment Fund
(EIF) to finance skills, TAFE colleges and universities. The
following is from the Budget Speech:

Mr Speaker, the Education Investment Fund will
finance capital investment in higher education and vocational
education and training. It will receive an initial allocation of
around $11 billion, including $6 billion from the Higher Education
Endowment Fund.

When the government announced the formation of the EIF, the
government proposed funding the remainder of $5 billion from the
2007-08 and 2008-09 Budget surpluses. The 2008-09 Budget transfers
$304.0 million from the Higher Education Endowment Fund in
2008-09.

In the 2008-09 Budget, the government also
announced that it will invest $10 billion in a new Health and
Hospitals Fund (HHF) to finance improvements to hospitals and the
health care system. The following is an extract from the 2008-09
Budget Speech:

Mr Speaker, the Health and Hospitals Fund will
finance health infrastructure. Key priorities include spending on
hospitals, medical technology equipment, and medical research
facilities and projects. The Fund will receive an initial
allocation of $10 billion.

When the government announced the HHF, the intention was that
the HHF would draw its initial $10 billion from surpluses in the
2008-09 and 2009-10 Budgets. The HHF will replace the Howard
Government's $351.7 million Health and Medical Infrastructure Fund.
The HHF is to be established by 1 January 2009. Full details are
yet to emerge as to how projects will be assessed for funding,
other than as part of each year s Budget process.

The Bill proposes to establish the COAG Reform Fund as a Special
Account. The Department of Finance and Deregulation
defines a Special Account as an appropriation mechanism that
sets aside amounts within the Consolidated Revenue Fund for
expenditure for special purposes. In short, a Special Account is an
accounting device into which funds relating to a specific activity
are deposited and from which payments are made.

As noted, establishing the COAG Reform Fund envisages a role for
the Australian Loan Council in ensuring that total capital spending
from the investment funds is consistent with the government's
macroeconomic goals. The Australian Loan Council s function is to
coordinate borrowing by the Commonwealth and state
governments.[14] At
the time of the May 2008-09 Budget, a major concern was inflation.
But with the subsequent economic downturn, a greater concern is
likely to be to support economic activity.

With respect to Commonwealth state financial relations, the
Labor Party s national
platform for the 2007 election stated:

6. Many of Australia s biggest policy
challenges involve the intersection of Commonwealth and State
government responsibilities. In government, reforming the
Federation will be an important priority for Labor. The cost shift
and blame shift between governments costs Australian taxpayers
billions of dollars each year. There is too much ambiguity about
which level of government is responsible for a particular
government program. This often creates difficulties for Australians
who want to access the range of services shared by governments, in
areas such as health care, aged care, childcare, disability
services, and dental care. It is also often a significant problem
for Australian businesses in dealing with conflicting and costly
regulatory environments between Commonwealth, state and
governments.

7. Accordingly, Labor will:

review areas of overlap and duplication of responsibility
between the Commonwealth and State and Territory governments, with
the aim of eliminating inefficiencies and clarifying
responsibilities;

maintain a comprehensive system of horizontal fiscal
equalisation based upon the per capita relativity recommendations
of the Commonwealth Grants Commission;

maintain a system of general purpose funding to local
governments which provides adequate funding for their needs;

continue to support specific purpose payments to States and
Territories where these are appropriate to meet national objectives
or ensure national standards, and ensure that those payments are
used for the purpose for which they have been allocated; and

ensure that State, Territory and local governments and their
authorities are able to maintain and steadily improve their
economic and social infrastructure.

8. Labor will also:

seek to eliminate inappropriate duplication between
Commonwealth, State and Territory, and local government functions
and activities;

support arrangements to voluntarily harmonise revenue bases and
tax administration between the Commonwealth, States and
Territories; and

support arrangements to voluntarily integrate the
administration of Commonwealth and State and Territory taxes and
charges, where this has the potential to lead to economic benefits
such as lower compliance costs for business.[15]

In the 2008-09 Budget Speech, the Treasurer, the Hon. Wayne Swan
MP, announced:

Where funds are used to finance capital
projects with the States, they will be distributed to the States
from the three new funds I have just announced through a new
Council of Australian Governments (CoAG) Reform Fund.

The COAG Reform Fund will also distribute
funding provided in future budgets to the States for recurrent
expenditure in areas of COAG national reforms, through new National
Partnership payments.

The Bill has been referred to the Senate Economics Committee for
inquiry and report by 10 November 2008. At present, there are no
details of the inquiry. The Nation-building Funds Bill (see below)
will be referred to the Committee when introduced so an extension
of time is possible.

The Bill consists of three Parts. Part 1 contains preliminaries.
Part 2 establishes the COAG Reform Fund and defines its purpose,
while Part 3 deals with the terms and conditions of grants the
Commonwealth makes to the states and territories.

Part 2 COAG Reform Fund

Clause 5 Establishment of the COAG Reform
Fund

Subclause 5(1) establishes the COAG Reform
Fund.

Subclause 5(2) specifies that the COAG Reform
Fund is a Special Account. Note 2 to subclause
5(2) states that an amount originating in the so-called
nation-building funds the Building Australia Fund, the Education
Investment Fund and the Health and Hospitals Fund may be
transferred to the COAG Reform Fund. Note 2 also refers to the
Nation‑building Funds Act 2008 but the legislation
for this has not yet been introduced into parliament.

Clause 6 states that the purpose of the COAG
Reform Fund is to make financial assistance grants to the States
and Territories.

Part 3 Terms and conditions of grants

Clause 7 deals with the terms and conditions of
grants. Subclause 7(1) provides that it applies if
an amount is to be debited from the COAG Reform Fund for the
purpose of making a grant to a State or Territory
[paragraph 7(1) (a)], and if the grant is not
covered by any of several provisions of the
Nation‑building Funds Act 2008 [ paragraph
7(1) (b)]. But absent the legislation for the
Nation-building Funds Act 2008, the import of these
provisions is unknown.

Subclause 7(2) deals with the proposed new
intergovernmental agreement on Commonwealth-state financial
arrangements, which is to be finalised by the end of 2008.
Subclause 7(2) provides that the terms and
conditions under which financial assistance is granted are to be
set out in a written agreement between the Commonwealth and the
State or Territory.

Subclause 7(3) provides that a Minister may
enter into an agreement under subclause 7 (2)
on behalf of the Commonwealth.

Clause 8Delegation by a Minister is a clause found in
other legislation whereby a Minister can delegate powers to other
parties. Subclause 8(1) provides
that a Minister may, by writing, delegate any or all of his or her
powers under section 7 to the Secretary of a Department
[paragraph 8(1)(a)] or to an SES employee, or
acting SES employee, in a Department [paragraph
8(1)(b)]. Subclause 8(2) provides that in
exercising powers under a delegation, the delegate must comply with
any directions of the Minister concerned.

The proposed framework for Commonwealth state financial
relations promises to go a long way in addressing many of the
problems identified with existing SPP arrangements including the
lack of accountability, duplication of administration,
blame-shifting and cost-shifting. In particular, the proposed
clarification of the roles and responsibilities of each tier of
government should reduce many of these problems.

Implementing the framework, however, faces considerable
challenges. One is to set performance benchmarks, outcomes, and
performance indicators to assess whether objectives are being
achieved. This is a formidable challenge because:

outcome/output measures of service delivery are
difficult to define, measure and enforce in a robust way.[16]

Several aspects of the new framework are unknown. One is exactly
how the COAG Reform Council will operate. As noted, the COAG Reform
Council will report on performance information against SPPs
outcomes, and will assess whether performance benchmarks have been
achieved under National Partnership agreements. The COAG
Reform Council s functions are thus similar to the former system
for national competition policy whereby the Commonwealth made
payments to the states in return for the states implementing
competition reform. In that case, an independent body the National
Competition Council assessed whether the states had undertaken
agreed reforms. However, the scope of the COAG Reform Council s
powers is unknown, for example, whether the COAG Reform Council
will be empowered to recommend the withholding of National
Partnership reward payments from a state if it fails to implement
reform as was the case with the National Competition Council. Other
major unknowns are how the level of reward payments will be
determined, and how they will be allocated among the states.

The new framework leaves untouched reform of the existing
arrangements for vertical fiscal imbalance and horizontal fiscal
equalisation. While this is not the place to address these issues,
a fuller reform of Commonwealth-state financial relations would
take them into account. The fact that vertical fiscal imbalance and
horizontal fiscal equalisation are not addressed is, however, not
surprising: successive governments of different political
persuasions have been unwilling to change them.

The financing of the three investment funds is under a cloud. A
feature of all three is that they are to be partly financed from
Budget surpluses. But with the downturn in the economy, the
prospect for Budget surpluses is unclear. The
Mid-year Economic and Fiscal Outlook 2008-09, which was
released on 5 November 2008, projects reduced surpluses. Estimated
payments to the states for 2008-09 to 2011-12 are in
Attachment D of the Mid-year Economic and Fiscal Outlook
2008-09.

Finally, while the government claims that the new framework will
provide greater funding certainty for the states, it is unlikely
that the states will stop complaining about the level of
Commonwealth funding.

[1]. The evolution of the Commonwealth s financial
domination of the states is described in Denis James, Federal-State
Financial Relations: The Deakin Prophesy , Research Paper,
no. 17, Parliamentary Library, Canberra, 1999-2000, at: http://www.aph.gov.au/library/pubs/rp/1999-2000/2000rp17.pdf.
Accessed 3 November 2008.

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